Venture capital is under siege, it’s very existence challenged by equity crowdfunding and now ICOs. At least, that’s what the financial press want us to believe. But how serious is the threat?
In the 1990s, venture capital was the only viable option for entrepreneurs seeking finance to launch and grow early stage businesses. This ‘old school’ infrastructure was considered progressive and exciting, since it defined itself in opposition to the rarified, slow moving and risk adverse world of institutional investments. To symbolise this departure, VCs wore trainers, spoke the language of startups and opened cool office spaces in Shoreditch.
But ultimately, this new breed of investors were the not-so-distant cousins of the bankers and fund managers in Canary Wharf skyscrapers who continue to make the world (of finance) go round. Entrepreneurs came to depend upon VCs, angel investors and private equity in order to get capital intensive products and services to market. This created an economic and cultural power imbalance in favour of “smart money.”
All that changed with the advent - and ascent - of crowdfunding. Equity crowdfunding first originated in the US in the mid 2000s, and exploded onto the scene in the UK in 2011, in the wake of the credit crisis, with the launch of Crowdcube. Since then, a plethora of other platforms have launched, with Seedrs becoming the first crowdfunding platform regulated by the FCA.
Finally, entrepreneurs and creatives had access to capital on the strength of their ideas, expertise and marketing chops, rather than simply the depth of their networks. It has become a cliche, but crowdfunding really did democratise finance and disintermediate the financial behemoths. In fact, the UK’s two largest equity crowdfunding platforms, Seedrs and Crowdcube, together accounted for 21% per cent of non-listed high-growth investments in the UK in 2016.
Now, in the blockchain era, a new generation of developers and entrepreneurs are taking things a step further, using distributed ledger technology and cryptocurrencies to disintermediate the disintermediators.
Crowdfunding carries several advantages versus venture capital. It makes finance easier, quicker and cheaper to access. It empowers entrepreneurs to retain more control over their companies by negating the influence of majority shareholders. It forges closer, more direct connections between investors and the companies they back. It enables startups to benefit from “retail” investors that are traditionally too small to back companies without the collectivisation and pooling of risk facilitated by crowdfunding platforms. Crowdfunding can also help improve valuations and terms. And of course, it’s great for publicity.
So, does the rise and rise of crowdfunding and other marketplace finance spell the end for venture capital? The answer is no, for the time being at least.
The fact remains that venture capital firms can be extremely valuable partners for startups, providing finance, strategic input, domain expertise and a rich network of potential investors and advisors. Of course, dumb money still exists. But there is also a lot of smart money out there searching for the right ideas and people to back.
VCs are professional investors. This means they have long term investment horizons. They can afford to be patient. Working with VCs also gives companies a welcome dose of credibility amongst their peers, customers and the wider startup ecosystem. This is not to underestimated in markets where the competition for capital, talent and business is extreme. Furthermore, working with VCs (particularly corporate VCs) can position startups for rapid growth and acquisition further down the line. These investors provide can market access, product integration and accelerated growth. Entrepreneurs would be foolish to overlook them.
Venture capital and crowdfunding are not mutually exclusive. Infact, many startups seeking capital are successfully leveraging both sides of the equation by inviting VCs to participate in equity crowdfunding raises as lead investors. Jeff Lynn, CEO of Seedrs, says that, “2017 will be the year in which institutional capital begins to play a meaningful role in equity crowdfunding.” This is a win-win situation for everyone and a great way to combine the expertise of smart money with a diversified book of retail investors.
Does crowdfunding pose an existential threat to venture capital? In truth, the two financing methods aren’t in competition. They are two sides of the same coin, and should be viewed as such by entrepreneurs seeking finance to launch and grow a business.
The growth of crowdfunding is forcing VCs to raise their game, resulting in a better service for startups and entrepreneurs. Venture capital is evolving and adapting to new market conditions, and it can afford to do so by investing in the right people and technology. By leveraging crowdfunding and other fundraising technologies powered by blockchain, venture capital can live forever.
Love or hate venture capital, here at Shieldpay we’d love to hear your thoughts. Are VCs a permanent feature of startup economics, or a transitory channel that will be superseded by marketplace finance and coin sales? Leave us a comment or hit us up on Twitter.